Since November 2002, Severe Acute Respiratory Syndrome (SARS) has infected over 7,300 people in 30 countries and has killed 514 as of May 25. [m1]Beyond the human toll, it is wreaking significant economic damage across Asia. The Asian Development Bank estimates that East Asia could lose nearly 28 billion dollars in income and output if SARS is not controlled by September. Under such a scenario, aggregate 2003 GDP growth in China, Hong Kong, South Korea, and Taiwan would be cut from 5.6 percent (pre-SARS) to 4.7 percent, while growth in Southeast Asia would drop from 4.0 percent to 2.5 percent.

Nowhere is SARS having more impact than on Mainland China, where the disease started. By May 25, over 4,800 cases and 230 [m2]deaths had been reported there. Yet its greatest impact may be on China's breakneck economic growth and antiquated political system. The epidemic's slow but seemingly unstoppable progression, and Beijing's long concealment of the truth, are exposing economic and political fault lines by simultaneously weakening the economy, damaging the government's credibility, and threatening social stability.

China's economy is experiencing a significant impact from the outbreak, and projections are being revised as the epidemic continues. After rapid 9.9 percent growth in the first quarter, China's economy will purportedly shrink 2 percent this quarter. Many economists now predict China's annual growth will fall below 7 percent, the lowest level since 1990. The severity of the current downturn is yet unclear and will largely depend on the progression and length of the outbreak, its impact on long-term investment factors, and foreign perceptions of social and government stability.

The initial impact of the epidemic has fallen primarily on China's services sector, which is particularly vulnerable to consumer confidence and spending. The retail, tourism, hospitality, and entertainment industries have been stricken (average hotel occupancy rates are now reported to be 33 percent) as postponed foreign tourism and business travel is compounded by the shortened May Day holiday week, a ban on domestic tourism, and the recent closure of many of Beijing's entertainment venues. China has been somewhat shielded by the fact that its services sector only comprises a third of the economy, far lower than in Hong Kong.

Manufacturing, which accounts for half of all economic output, initially experienced indirect effects only. Now, there is mounting evidence the economic impact is now reaching manufacturers. For the first time in over a decade, China may run a trade deficit in 2003. Several factories are reporting significant drops in orders, which instead are being routed to Southeast Asia, Turkey, and Mexico, according to Credit Suisse First Boston. Buyers in the United States, Australia, Japan, and Hong Kong are purportedly turning away from Chinese goods. For example, agricultural exporters in Hunan province reported an 87 percent drop in orders for meat products from Hong Kong and Australia during April (year-on-year). Russia has closed some border crossings with China and urged its airlines to halt all flights to the Mainland, Hong Kong, and Taiwan, which could further slow trade.

SARS-related precautions are exacting a premium on the transport of goods across China. According to The Wall Street Journal, trucking costs are climbing on main arteries such as the Shanghai-Beijing route (one freighter cites a 66 percent increase for hiring a truck), partly due to medical checkpoints on the highways and special quarantines for trucks with Beijing license plates. Shipping by rail is often cost prohibitive and the timeliness of air transport is not guaranteed, since SARS-related air shipments currently have top priority.

Potentially more damaging in the long run, perceptions of China as a safe, predictable, and high-yield market for investment are now under review. China's mismanagement of the epidemic, and the perceived political and economic instability the leadership has caused, is at least temporarily dampening China's attractiveness to some foreign firms and investors. The value of new contracts for foreign investment could drop 50-80 percent in 2003, according to a recent estimate. Actual FDI in China grew by 56 percent year-to-year in the first quarter, but the frenzied pace of deal making has slowed dramatically in recent weeks. The Canton Trade Fair was cut short on April 19 with US$3.31 billion in signed contracts, less than 20 percent of last year's total, while signed contracts at the 2003 Guangzhou Trade Fair fell to US$730 million, just 4 percent of the 2002 total.

Barring a crisis-fueled economic collapse, however, foreign firms and investors largely remain optimistic about China's long-term attractiveness. General Motors continues to invest in new Chinese plants while shedding capacity elsewhere, and several key international players in China's hotel industry have vowed to continue their expansion plans, arguing that the sharp current decline is merely a short-term phenomenon.

Beijing's mismanagement of the outbreak has plainly exposed just how far political reform has lagged behind economic development. The crisis is undermining traditional supporters, aggravating old demographic strains, and emboldening detractors to more assertively protest government policy. Because of China's growing interdependence with the world, the current maelstrom is more likely than previous crises to lead to political reforms, but the extent of those reforms will depend on the duration of the epidemic, the severity of the economic impact, and proclivities of the Communist Party that so far appear unaltered by public outrage. Even the government's most consistent supporters are dismayed by Beijing's apparent dishonesty.

The party, led by President Hu Jintao and Premier Wen Jiabao, is now moving quickly to counteract the loss in confidence. Before the SARS outbreak, Mr Hu portrayed himself as a populist leader, visiting workers and promising to narrow the growing gap between the urban rich and rural poor. Now he and the Communist Party have been forced to embrace several powerful concepts:

Political accountability. Minister Zhang Wenkang and Mayor Meng Xuenong were the highest-profile officials fired for negligence-instead of corruption-since Communist Party General Secretary Zhao Ziyang was removed during the Tiananmen protests. Another 120 officials have been fired, demoted, or reprimanded in the last month.

Transparency. From Premier Wen to new Beijing Mayor Wang Qishan, the message is consistent: the public must be told the truth regarding matters directly affecting their lives. In what might be a sign of changing times, the asphyxiation deaths of 70 People's Liberation Army (PLA) submariners were reported in the PRC official press on May 3, a highly unusual act of openness.

Greater responsibility for social infrastructure. The outbreak has exposed a major flaw in China's model for growth, namely that public infrastructure could be ignored in favor of maximizing national income. More investment has been promised in public health care (US$420 million alone to set up a nationwide health network) but will increase fiscal pressure on the new PRC leadership that already inherited sizable and rapidly accumulating public debt.

Still, several important forces in Chinese politics that contributed to the crisis appear unaltered and could weaken any push toward greater accountability and transparency. First, factional politics remain a decisive force in political legitimacy and authority. The incomplete transfer of power from former president Jiang Zemin to President Hu Jintao has left their rival supporters jockeying for influence, and President Hu and Premier Wen are now using the crisis to consolidate their power base. Although the April 20 dismissals of one Jiang confidant (Minister Zhang) and one Hu ally (Mayor Meng) were apparent tradeoffs among the factions, Mr Jiang's reputation has suffered in recent days. During an April 26 speech, he claimed the government had scored important victories against the out-break. Those comments, which directly conflicted with Mr Hu's and Mr Wen's nightly statements of the grave struggle ahead, were met by significant public criticism. If President Hu and Premier Wen emerge from the crisis with greater power, they may have more levers at their disposal to discourage reform efforts.

Second, local governments and turf-conscious bureaucracies have been remarkably successful in resisting and ignoring previous reforms and directives from the Central Government. Their continued success will de-pend in part on the level of pressure exerted from top leadership, and neither President Hu nor Premier Wen have given many signs that he is a committed reformer.

A number of observers and pundits are considering whether SARS might be China's Chernobyl, a landmark catalyst for political and economic reform. There are clear parallels. The Soviet government attempted to hide the disaster until international pressure forced Moscow to disclose the truth, and similar to President Hu, Mikhail Gorbachev encountered the crisis within his first year in power.

There are also strong differences between the two cases. Mr Gorbachev came into power waiting for an opportunity to implement glasnost and perestroika, but China has no leading reformer just entering the political stage. While the Soviet economy was in a headlong decline by the 1980s, China is experiencing rapid growth with bright prospects, in part due to comparative advantages unlikely to change because of SARS. Also, while Beijing has faced significant international pressure, it is so far not facing the vitriolic condemnation the world directed at Moscow after Chernobyl.

Thus, while growing pressure from a more demanding public and an increasingly interdependent world has forced China to stop concealing its crisis, the extent of any resulting political reform will depend on whether the enhanced incentives for accountability and transparency among public officials override the traditional incentives for party and factional loyalty. What is clear, as evidenced by Premier Wen's humble pledge of candor last week to ASEAN, is that the calculus of Chinese politics-including factional politics-is in flux. As China continues to integrate with the world economy and accepts other global values, pressures for political reform mount.

This article is copyright 2003 The National Bureau of Asian Research (NBR). A longer version of this article was published by NBR on May 9, 2003, and this version is published here with permission of NBR. To learn more about NBR, and to access other NBR publications, please visit http://www.nbr.org.